2.1 rising finance Flashcards
What are types of internal sources of finance
Owners capital
Retained profits
Sale of assets
Sale and leaseback
What are types of external sources of finance
‘Family and friends’ Banks Peer to Peer lending (P2PL) Business angels Crowdfunding Other businesses (B2B funding)
Why would business need finance
Equipment Raw materials New premises Expansion New Technology Staff training
What is capital expenditure
Spending on business resources that can be used repeatedly
What is revenue expenditure
Spending on business resources that are used in the short term
Examples of capital expenditure
Machinery
New Premises
Company vehicle
New technology
Examples of revenue expenditure
Wages Raw materials Fuel Maintenance Repairs
Benefit of capital expenditure
Will help company to grow in the long term
Benefit of revenue expenditure
Will help company operate today
Owners capital examples
Cash and investments Redundancy payments Inheritances Personal credit cards Remortgaging Putting time into the business for free
What is owners capital
Money provided by the owners in a business
Advantages of owner capital
Cheap The Entrepreneur maintains control Good for startups Time - Quick can be reduced if funds are already available Shows confidence to other investors Focuses the mind!
Disadvantages of owner capital
It can take time to raise
Can be risky for the entrepreneur if they have remortgaged and have no plan B
What is retained profit
Profit after tax that is put back into the business
Advantages of retained profit
Cheap (no interest, debts)
The business maintains control
Flexible - the business can decide when they use it
Time - no need to complete lengthy applications
Low risk as no additional investors involved
Disadvantages of retained profit
No good for startups
The opportunity cost - dont get the money for shareholders is that the owners (shareholders) receive lower or no dividends
Conflicts between shareholders and managers
No profit no funding
What is sale of an asset
An asset that is no longer needed is sold
Advantages of sale of an asset
Cheap
The business maintains control
Time - no need to complete lengthy applications
Low risk as no additional investors involved
Disadvantages of sale of an asset
No good for startups
The opportunity cost is that the asset is no longer available for use in the business
Conflicts may arise amongst employees if the asset is still in use
What is sale and leaseback
The business sells an asset to another firm and leases back
Advantages of sale and leaseback
Cheap (no interest)
The business maintains control
Time - Quick
Disadvantages of sale and leaseback
Expensive - the cost of leasing back can be high
No good for startups
Advantages of internal sources
Cheap
Owner maintains control of business
Fast
Disadvantages of internal sources
Limited amount ££
Not always available (especially for startups)
Limited amount of options
What is friends and family sources of finance
Can be a loan, gift or for % of business
Advantages of friends and family
Cheap - A lower interest (if any) can be agreed
The business maintains control
Time - no need to complete lengthy applications
Low risk as no additional investors involved
Disadvantages of friends and family
Relationships may deteriorate if debt is not repaid
Banks sources of finance
loans, overdraft, mortgages and credit card
Advantages of banks
Great for startups, although can be hard to convince the banks lately
Time - although a clear business plan must be presented
Low risk as no additional investors involved
The business maintains control
Disadvantages of banks
Expensive - interest rates can vary and can be high especially for credit cards and overdrafts
Risk is high if debt is not repaid - the banks will not negotiate on repayment
Lots of paperwork
What is peer to peer lending
Individuals can lend through an online process, do not give away equity but pay interest on loan
Advantages of peer to peer lending
Great for startups, although a clear business plan must be presented
Time - easy to set up
Control is maintained by the business
Low risk to the entrepreneur as the lender takes all the risk
Cheap: Low interest rates offered
Disadvantages of peer to peer lending
Expensive - the arrangement is based on the lender receiving a generous profit share
The website managing the process will take a % of the deal
Lenders have complete control over who they invest in
What is business angels
Individuals that invest in return for a stake in the business
Advantages of business angels
Great for startups and established businesses, although a clear business plan must be presented
Time - can be quick if the angel has the funds readily available
The business can benefit form the angels expertise in a particular area of the business
Disadvantages of business angels
Expensive - the angel will expect a stake in the business and will receive dividends
The angel may want to have some control over the business
What is crowdfunding
Individuals lend to business through websites such as ‘kickstarter’
Business either gives up equity % or its final product
Advantages of crowdfunding
May be only way small business ideas can get funding (if they get turned down by bank loans)
Acts as advert for business
May attract advice and help as well as funds
Disadvantages of crowdfunding
May not attract any other investors
May be a waste of time which could be used to source funds elsewhere e.g bank loans
Alerts to competitors to your need for funds
Advantages of external sources
Can raise more ££ (Some) maintain control Get support (family/friends, bank or investor will all want you to succeed and may be able to help)
Disadvantages of external sources
Takes time & effort
Give up control of business
Expensive (interest rate)
What is credit
You can give credit or take credit. If you give credit you are the creditor if you take credit you are the debtor. If you are in credit with a supplier / bank that means you have access to funds with that supplier / bank
What is a creditor
Lender of Money (bank, supplier, loan shark)
What is a debtor
Person/Business that owes Money
How high is risk of unlimited liability business
Risk is high due to personal assets being at risk
How high is risk of limited liability business
Risk is lower, owners are protected - Therefore, more finance options are available.
How would investors view a unlimited liability business
Banks would view you as higher risk and therefore, you might find it more difficult to source finance
How would investors view a limited liability business
Less risky option for banks, you can also sell shares
Control on unlimited liability business
Tight control as the owner has all the decision making power.
Control on limited liability business
Control could be lost through the sale of shares
Amount of Capital expenditure on an unlimited liability business
There is usually lower capital expenditure as the types of businesses tend to be service orientated.
Amount of Capital expenditure on an limited liability business
Higher capital expenditure compared to sole traders, which debt can be secured against.
How much do unlimited liability businesses tend to borrow
Sole traders and partnerships tend to borrow less as they have fewer financial needs
How much do limited liability businesses tend to borrow
It would depend on whether the business is growing
How do businesses assess their choice of finance
TRECC (Time, risk, Established, Cost, Control) Or DRA (Duration, Reason, Amount)
What is cash flow forecasting
Cash flow forecasts are a prediction (forecast) of what the business expects their cash inflows and outflows are going to be over a period of time.
What is a positive cash flow
A successful business must try to have more cash flowing in than they have flowing out.
What is a cash flow deficit
If a business allows more cash flowing out than flowing in
Net cash flow formula
Net cash flow = Total Monthly Inflow – Total Monthly Outflow
Closing balance formula
Closing balance = Opening Balance + Net Monthly cash flow
What is the opening balance
The closing balance for one month is the opening balance for the next
Examples of Inflows (receipts)
Cash sales Receipts from trade debtors Sale of fixed assets Interest on bank balances Grants Loans from bank Share capital invested
Examples of Outflows (payments)
Payments to suppliers Wages and salaries Payments for fixed assets Tax on profits Interest on loans & overdrafts Dividends paid to shareholders Repayment of loans
Positives of cash flow
Plan ahead
Spot problems
Financial Control
Make lenders confident
Negatives of cash flow
It is an estimate
Can’t predict external forces
It takes time
Can’t be used in isolation
Why Produce a Cash Flow Forecast?
- Advanced warning of cash shortages
- Make sure that the business can afford to pay suppliers and employees
- Spot problems with customer payments
- An important part of financial control
Provide reassurance to investors and lenders that the business is being managed properly
